While 2016 may end up looking a lot like 2015 in terms of stock market returns in the U.S., intermittent periods of stock market volatility, endless debates over potential Federal Reserve interest rate hikes and overseas economic uncertainty, I believe that there will be some unique twists in 2016 that were not present in 2015. As a result, I suggest positioning portfolios to both take advantage of a gradually rising interest-rate environment and the likely "passing of the baton" from U.S. equities markets to international equities markets in 2016 in terms of return potential.
Additionally, with the long awaited initial rate hike behind us, I believe that investors should now consider as attractive areas of the market that historically have benefited from previous periods of gradual tightening, such as REITs and energy. Finally, 2016 is also a presidential-election year, which should not be ignored in terms of the associated, potential market implications of this process.
Here is a current summary of our seven key forecasts for 2016 based upon data available to us at this time and subject to change:
- The sluggish U.S. economic recovery will continue, with annualized GDP growth in the range of 2.4% - 2.8% for the year. This forecast is consistent with my longer-term forecast of sub-3% annual GDP growth in the U.S. for the next 5 years. On the global front, particularly in the euro area, I do anticipate a slight pick-up in economic growth rates in 2016. Looking beyond 2016, the euro area also has the most favorable forward looking GDP growth estimates, on a relative basis, as per the 2016 Global Outlook report from The Conference Board.
- Despite many intermittent starts and stops, the U.S. stock market (as measured by the S&P 500 index) will likely advance upon its secular bull market run for one more year with a potential annualized total return gain in the lower single-digit range.
- Due to a strengthening U.S. dollar and increased efforts to stimulate their respective economies, international developed markets (ex. Europe) should outpace the U.S. stock market in U.S. dollar terms in 2016, with international emerging markets lagging behind thanks in large part to the unknown impact of the Chinese government's economic (and local stock market) stimulus efforts.
- Given their current valuations and historical performance track record during previous periods of rising interest rates, I expect REITs to perform relatively well, with certain REIT sectors performing better than others. Some may be cautious about investments in REITs because of fears over the impact of rising interest rates on the housing market and mortgage REITs in particular. While concerns over Mortgage REITs may be warranted, it is important to recognize that REITs are not just related to the housing market and not all REITs are mortgage REITs. In fact, the largest component of the REITs market is not associated with mortgage REITs but rather retail REITs. Other REIT sectors include diversified REITs, industrial REITs, hotel and resort REITs, office REITs, healthcare REITs, residential REITs and specialized REITs (including self-storage).
- Oil prices will remain at depressed levels for the majority of the year, even dipping below $30 a barrel at some point during the initial stages of 2016, with some appreciation potentially being realized as the year progresses if OPEC introduces some form of supply restrictions. This condition (in addition to the intensifying emphasis on climate-change related initiatives across the globe) should allow other non-traditional sources of energy, and elements of the energy supply chain that are not highly correlated to the price of oil, to benefit in terms of demand and price increases.
- The Federal Reserve will likely continue upon their measured, drawn out tightening cycle with 3 - 4 additional rate hikes of 25 basis points in 2016, leaving the federal funds target rate in the range of 1.00% - 1.25% by the end of the year. Our forecast is slightly below that of the weighted 2016 target-rate forecast of 1.29% by the Fed based on the last released forecasts of the FOMC participants stemming from their December 2015 meeting.
- Investment-grade bonds should not experience any type of a significant drop in prices as some are suggesting in 2016 as a result of the planned, measured tightening process that the Fed has communicated and the expected stock market volatility in 2016 that could attract investors to the safe haven of U.S. Treasuries and other investment-grade bonds, including municipals (which were one of the best performing fixed income asset classes of 2015).
With these forecasts in mind and given the many moving pieces in the complex, global investment puzzle, investors would be wise, in our view at Hennion & Walsh, to re-visit their asset allocation strategies at the beginning of each year (at a minimum) to help ensure that they have the diversification in place to withstand potential periods of heightened volatility as well as the breadth of asset classes and sectors to help deliver risk-adjusted growth opportunities in the new year.
Disclosure: Hennion & Walsh Asset Management currently has allocations within its managed money program and Hennion & Walsh currently has allocations within certain SmartTrust® Unit Investment Trusts (UITs) consistent with several of the forecasts cited above.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.